Can You Use Home Equity to Buy a Second Home?

Can You Use Home Equity to Buy a Second Home?

Yes, you can use home equity to buy a second home. Using the equity in your home to buy a second home, like a vacation house or investment property, can make you a more competitive buyer and offers some financial benefits. The most common ways include using a home equity loan or home equity line of credit (HELOC). Both options are secured by your home and could let you borrow up to 85% of your home's value.

With a home equity loan, you get a one-time lump sum and pay it back in fixed installments over a set term—typically five to 30 years. Rates are fixed and won't fluctuate when the market shifts.

A HELOC, on the other hand, is a revolving line of credit that you can borrow from repeatedly up to your loan limit. Interest rates fluctuate, but you only pay interest on the amount you borrow during the loan's draw period. When your draw period ends, you can no longer borrow, and the HELOC must be paid back in full-usually over 20 years.

Using a home equity loan or HELOC to finance a second home is possible, but you'll need to meet certain qualifications, and it's important to understand the potential drawbacks.

Tip: A cash-out refinance is another way you can tap into equity from your first home to buy a second home. Refinancing tends to be more complicated than getting a home equity loan or HELOC since it replaces your current mortgage with a larger loan. So if you opt for this route, it may help to run the numbers with a financial advisor.

How to Buy a Second Home Using Home Equity

If you're considering using your home's equity to purchase a second property, take these steps to get started:

1. Determine Your Home Equity

First, calculate your home's equity by subtracting your mortgage from the market value of your home. Market values for real estate fluctuate often, but you can use websites like Realtor.com, Redfin and Zillow to get an idea of how much your home is worth. These websites can provide a rough value estimate for your specific home, but you may also consult the selling price of similar homes in your area. (If you move forward with an application, most lenders will require a professional appraisal to determine the true market value of your home.)

2. Choose a Financing Option

Carefully consider the advantages and disadvantages of each type of home equity financing. Do you need a lump sum of cash? Or do you prefer to have a revolving line of credit you can borrow from again and again? Think about repayment periods, interest rates and other potential conditions. For instance, if you're not comfortable with fluctuating interest rates, a HELOC may not be the right fit.

3. Compare Lenders and Rates

Home equity loans and HELOCs are available from banks, credit unions and online mortgage lenders. Many lenders let you prequalify without impacting your credit. So you can shop around to compare interest rates, loan amounts, monthly payments and other terms. Closing costs can range from 2% to 5% of the loan, so carefully compare what each lender charges.

4. Submit Application

Once you've decided on a lender, it's time to apply. You can usually apply for a home equity loan or HELOC online. If you want some extra guidance, consider applying with financial institutions in person. The underwriting process can take anywhere from a few days up to a few weeks. After approval, you'll sign the loan documents during closing and then receive your funds.

Pros and Cons of Using Home Equity to Buy a Second Home

Using home equity to buy a second home has both benefits and drawbacks.

Should You Use Home Equity to Buy a Second Home?

Using home equity to buy a second home can be a smart move in certain situations.

• You're buying a vacation home you'll use often. Putting the money you borrow from your home toward a second home can improve your quality of life for many years to come and has the potential to build additional value over time.
• You're investing in rental property for passive income. Lenders often require higher down payments for rental properties. Using your home equity can help you cover the cost.
• You're taking advantage of low interest rates. Interest rates are typically lower on home equity financing. So if you have a lot of equity in your home, you may be able to use the equity for a second home to pay in cash instead of getting a mortgage.

Alternatives to Using Home Equity to Buy a Second Home

While you likely won't be able to use government-backed loans, such as Federal Housing Authority (FDA), U.S. Department of Agriculture (USDA) or Veterans Affairs (VA) loans to buy a second home, some alternatives to using home equity to buy a second home include:

• Get a new mortgage. A conventional mortgage can be used to buy a second home, but lender requirements are often stricter compared to primary residences.
• Purchase the home with cash. If you have the means without relying on borrowing against your home's equity, paying cash for a second home is a smart financial move.
• Partner with family or friends. You may be able to pool your money with relatives or good friends to buy a second home, like a vacation house.

Learn more: What to Know About Buying a Second Home

Frequently Asked Questions

The Bottom Line

Buying a second home is a major investment. A real estate agent can help you find properties that fit your financial goals and desired location while tapping into the equity of your first home can help you afford your dream vacation home or investment property. But before choosing a home equity loan or HELOC to buy your second home, it's important to carefully consider if the benefits outweigh the risks.

Keep in mind that if you plan to borrow against your home equity, you'll need good credit to get the best rate and terms. Check your credit report and FICO^® Score^☉ for free with Experian to see where you stand.